Dow Theory Update For June 3: Is It A Secular Bull Market?

Ed Yardeni, of the Dr. Ed's Blog, has just posted that the Dow Theory is bullish. I agree with him. In his post, he states (something which has been defended by Schannep of "thedowtheory.com" long time ago) that we are in the midst of a powerful secular bull market. I have written in previous posts (here and here, for instance) that it is difficult for me to accept the secular bull market thesis because valuations are not compelling (and all secular bull markets started with low valuations) and, to add insult to injury, I am extremely leery when it comes to defining "cheap" and "expensive," as both concepts are a moving target (a PER of 20 may be cheap in one country with a given capital structure and expensive in another one). Richard Russell, of the "DowTheory Letters" gave a valuation yardstick according to which markets will likely under perform in the coming year, thus giving little hope for a secular bull market to exist.

Be it as it may, as you can read in this in-depth study, both the classical and Schannep's Dow Theory manage to outperform the market irrespective of its secular market condition. Of course, during secular bull markets (which are easy to spot in retrospective, but elusive in real time) performance gets a boost given the tailwind provided by the secular bull. Thus, as Dow Theory investors focused on riding the primary bull markets and avoiding the primary bear markets, we are mainly unconcerned by the debate concerning whether we are in the midst of a secular bull market or not. In any instance, we invest and disinvest according to the primary bull and bear market signals.

In spite of the foregoing, my two cents on the secular bull market thesis. As I said, and in this respect, I side with Richard Russell, I tend to consider stocks expensive. However, the markets edges higher and higher. I know of one condition where, irrespective of valuations, stocks go relentlessly up. Can you guess?

Yes: Severe inflation. I am not talking about 10-15% inflation as in the nineteen seventies, but more, much more (something which freegolder FOFOA has been advocating for a long time). If the US were to experience high inflation, then stocks would go up irrespective of valuations. In Germany during the Weimar Republic stocks went up, even though their rise wasn't enough to preserve real purchasing power for the hapless average investor. However, the charts had the looks of a raging bull market. So maybe the stock market is discounting future high inflation in the months ahead.

The other more unlikely scenario is investors discounting great earnings in the months and even years ahead. While I am no expert in this field, since my forte (hopefully) is the Dow Theory, I am skeptical as to high earnings growth in the future. Just look around you. However, forget all my babble, and just stick to the primary trend as determined by the Dow Theory (preferably by Schannep's flavor). You don't need to be an expert in valuations or in determining the secular condition of the market; you just need to determine the primary trend of the market.